Bank Regulation in the UK - Essay Example

Banking Law: Case Study Number Department Question UK Pension Fund is a unit trust that invested £100,000 worth of shares in Baribas Ltd on behalf of its members. As such, Baribas’ unreasonable inducement of the investors, to make riskier investments due to an internal banking culture that authorized higher bonuses and no penalties linked to irresponsible risk-taking is a significant breach of “mutual trust and confidence” which the Fund had in the bank (Lowe, 2008). The Fund was entitled to impartial advice and treatment by the bank in order to make a well-informed decision on the investment options available to it. As such, the contract for the purchase of the shares should be voided for a breach of a fundamental fiduciary duty of the banker. Lloyds Bank Ltd v Bundy [1974] EWCA Civ 8 is a very important English contract case law, whose outcome on undue influence is applicable in this case. In the Court of Appeal decision, Lord Denning MR incorporated all infringements of autonomy into a single doctrine of inequality of the power of negotiation (Matthias, 2013). The Court held that any violation of the fundamental rule of autonomy voided the agreement between Mr Bundy and the bank because as expected of the latter party, it failed to provide a balanced advice to its client concerning its financial position. He went further to observe that the unnecessary influence of the plaintiff in the contract with the bank warranted the intervention of the court. In this case, it is evident that the UK Pensions Fund entered into the contract with the Baribas Bank because they did not get independent advice before entering into the contract for the purchase of shares (Biundell-Wignall, & Atkinson, 2011). As such, the Pensions Fund can validly bring claims for termination of the contract and reparation against the Bank over breach of the fiduciary duty. Question # 2 Baribas Bank’s refusal to release important financial information in its annual financial statements whether or not the bank had been asked by the shareholders to publish the records amounts to a substantial breach of the directors’ fiduciary duty (Sjöberg, 2011; Gelpern, 2014). The Companies Act 2006 under sections 171-177, obligates the company directors to act in good faith by making an honest disclosure of the financial performance of the bank. The violation of the provisions is therefore actionable by the shareholders or any other interested party who in this case is the UK Pensions Fund (Ray, 2013). The failure of Baribas Bank to release due financial statements is in violation of Part 15 of the Companies Act 2006 (covering sections 380 to 474), which spells out rules for the processing, distribution and submission of financial reports including the acceptable option for the correct accounting guidelines. In addition, the shareholders have legitimate rights to regular financial reporting in respect of their reasonable expectations in the distribution of profits payable as dividends (Michael, & Robert, 2013). In light of this, the failure by the public company therefore casts doubts as to whether the shareholders rights are being distributed correctly as spelt out in Part 23 (sections 829 to 853) of the Companies Act 2006. As such, it is reasonable to compel the bank to release the due financial statements through a court order. As Goodhart and Schoenmaker (2009) said, there is also adequate evidence suggesting that by withholding the due financial reports, the bank is in breach of the shareholders’ legitimate expectations of transparent accounts. Any shareholder can therefore bring claims against the bank because as held in Co-operative Wholesale Society v. Meyer [1959] AC 324, withholding annual financial statements amount to a burdensome, inappropriate and punitive action against the shareholders. Regardless of the director’s breaches of the fiduciary duty, the Companies Act 2006, section 112 provides that the UK Pensions Fund can only institute a derivative action against the directors and or a court action against the company in general if it holds shares in Baribas Bank. Question # 3 The act by the Credit Rating Agency Moddys of giving the CDOs high credit ratings when in the actual sense the financial reports showed that its status were premised upon subprime mortgages that could not be repaid, amounts to misrepresentation of fact (Coskun, 2010). Misrepresentation is a doctrine of English law of contract and of tort, referring to a circumstance where a party is enticed into an agreement by inaccurate declaration of facts or law by the contractor. In this case, the Credit Rating Agency is liable for misrepresentation following its deliberate assertion of false financial reports for purposes of attracting an investment worth £150,000 from the UK Pensions Fund. Specifically, there is a breach of the fiduciary duty by the Rating Agency, which rather than act in good faith by offering independent judgment of the CDO’s financial position chose not to. The misrepresentee who in this case is the UK Pensions Fund reserves the right rescind the investment agreement or press for damages (Stephen, & Philip, 2013). The UK Pensions Fund’s claims for fraudulent misrepresentation draw several similarities from the claimant’s in Derry v Peek (1889) LR 14 App Cas 337. Derry is an important precedent in the law of tort of deception, the tort of deliberate misstatement of facts, and fraudulent misrepresentation in the law of contract. The case also invoked the breach of the fiduciary obligation in equity. Like in the precedent, the deliberate misstatement of the financial reports of the CDO did not require the use of ‘care and skill’ to publish and is therefore actionable (Albert, & Goodhart, 2009). The only difference between the cases is that whereas in Derry, the respondent was liable for dispatching a misleading prospectus, the Rating Agency has issued false financial reports (Ray, 2013). Lord Herschell used Derry v Peek to create a test for fraudulent misrepresentation as amounting to a report which one had made either: a) with clear knowledge that it is inaccurate; or b) without conviction in its accuracy; or c) in negligence as to whether it is factual or not (Rosa, 2006). Claims would be granted if UK Pensions Fund proves that The Rating Agency was aware of the financial position of the CDO, but acted in contravention of the knowledge. In this case, the first two tests would apply. Question # 4 The directors of Baribas Bank can be held individually liable for sending the finance company into insolvency through their wrongful trading practices (Bresser-Pereira, 2010). The directors knew beforehand or should have reasonably known that the Bank was at the risk of insolvency but they did not work hard to avoid or minimize the potential losses to the banker’s creditors (Goodhart, 2008). In determining whether the directors did the best they could to mitigate the damages upon creditors, a court would assume the directors were aware of no reasonable likelihoods of the firm avoiding the economic difficulty, even if they were unaware of it. An able board of directors would have known that the large bank could not comfortably hold a paltry 4% capital in risk-weighed assets and rely on 15:1 in leverage-ratio for stability or sustainable productivity. In addition, a reasonable board would be aware that over-exposing the bank to too much of the CDOs were a risky manoeuvre which had the potential to trigger the collapse of other financial institutions and insurance firms which had exposures to or provided Baribas CDOs cover (Basel Committee on Banking Supervision, 2011; Lastra, & Wood, 2010). Owing to the fact that Baribas was ‘too large to fail,’ the directors could be held individually liable for the failure. Regardless, the burden of proof against the Baribas board might be insurmountable for the UK Pensions Fund. In Re Continental Assurance Co of London plc [2007] 2 BCLC 287, for example, the claimant alleged wrongful trading under the Insolvency Act 1986, s.214 and misfeasance under s.212 by citing repeated cases of bungled financial reports, which materially complicated knowledge of the company’s status of insolvency. In addition, the directors ordered the release of payments to IATA and ABTA in a manner that showed misfeasance. But when the issue came before court said, it was held that the claims did not amount to any material losses and that instead of suing the finance director and claimants chose the wrong target (EU Commission Communication, 2010). Question # 5 In awarding compensation for insolvent firms such as the Baribas Bank, the group of depositors who have tried to claim the full value of their deposits back after Baribas collapse are given a maximum of 3,000 Euros, because the amount is a reasonable proportion of all moneys available at the liquidator’s disposal. In most cases, the court enjoys wide latitude over ordering compensation (Tadeusz, & Yochanan, 2011). As such, the 3,000 Euros is a compensatory amount rather than retributive. Traditionally, the benchmark for calculating the right proportion of compensation would be to subtract the net value of assets at the point when liquidation was detected from the value of the net assets of the Bank at the time when the board of directors should have ceased trading. Owing to the wide latitude courts enjoy on this issue, the court may grant just a proportion of the amount which is due for the shareholders and or the depositors. The 3,000 Euros is therefore a fraction of the amount claimed by the depositors. Such precedent was set in the case of Re Brian D Pierson (Contractors) Ltd [1999] BCC 903 where the court awarded a paltry 30% of the value of the net assets. The drop is partly attributed to the directors’ actions to mitigate the situation, which in Re Brian D Pierson (Contractors) Ltd, the court estimated at 70%. The court determined that the investors were entitled to a 30% of the dues, an amount which was attributed to dispensable causes. Question # 6 As Charles and Joao (2005) said, the Financial Services Authority (FSA) was the primary body charged with regulating UK’s financial services between 2001 and 2013. The body was established by the Financial Services and Markets Act 2000 (FSMA). Under the Act the FSA was under the obligation to audit the activities of the Baribas employees and take appropriate actions but it did not, most probably out of negligence. Nonetheless, the activities of Baribas employees fell within the mandate of the FSA as far as its policing work against market abuse regarding both non-equity securities and other instruments were concerned. In respect of the recent decision in Financial Services Authority v Sinaloa Gold plc & ors (Respondents) and Barclays Bank plc [2013] UKSC 11, the FSA had the discretion to act on the wrongful trading practices by certain Baribas agents without fear of any reprisals (Gary, & Andrew, 2009). In the case, the Supreme Court affirmed the earlier verdict of the English Court of Appeal, which exempted the FSA from liability for cross-undertaking in compensations and other damages arising from losses suffered by third parties, when the public organization is seeking an injunctive order from court. The decision practically absolved the body of liability in what was seen as an important step towards better regulation of financial services and asset holding. The acts of omission by the FSA are therefore actionable. Conclusion UK Banking regulations aim to provide sustainable financial industry because it is the most important part of the economy. Other sectors are closely intertwined with banking and must be protected against any failure of the sector as a failure in banking could trigger the collapse of other sectors of the economy such as insurance, CDOs and creditors. References Albert, C., & Goodhart, E., 2009. The Regulatory Response to the Financial Crisis. 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New York: Cengage. Lowe, A. 2008. International Economic Law. London: OUP. Basel Committee on Banking Supervision, 2011. Basel III: A Global Regulatory Framework for more Resilient Banks and Banking Systems. Retrieved from EU Commission Communication, 2010. An EU Framework for Crisis Management in the Financial Sector. Retrieved from Rosa, L. 2006. Legal Foundations of International Monetary Stability. London: OUP. Coskun, L., 2010. Credit-rating agencies in the Basel II framework: why the standardised approach is inadequate for regulatory capital purposes. Journal of International Banking Law and Regulation, 25(4), 157-169. Goodhart, C., & Schoenmaker, D., 2009. Fiscal Burden Sharing in Cross Border Banking Crises. International Journal of Central Banking, 5(1), pp.1-25. Goodhart, C., 2008. The regulatory response to the financial crisis. Journal of Financial Stability, 4, 351-358. Gary, G. & Andrew, M., 2009. Securitised Banking and the Run on the Repo NEBR Working Paper No. w15223. Retrieved from Charles, K., & Joao, S., 2005. Allocating Bank Regulatory Powers: Lender of Last Resort, Deposit Insurance, and Supervision. European Economic Review, 49(8), 2107-2136. Tadeusz, K., & Yochanan, S., 2011. The financial crisis: what lessons can be learned? Poznan University of Economics Review, 11(1), pp.48-63. Sjöberg, G., 2011. Handling Systemically Important Banks in Distress? Some Thoughts from a Swedish Perspective. European Business Organization Law Review, 12(2), pp.227-250. Read More